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Use ABC inventory classification and forecasting to evaluate the profitability and importance of each item. Use the information when you set up inventory, coverage code, coverage period, and whether to use a minimum and/or maximum on-hand inventory when scheduling.
ABC analysis is the method of classifying items based on their relative importance. Item classification can, for example, be based on monetary value, availability of resources, and carrying cost.
Most companies carry numerous items in stock. To have better control, and at a reasonable cost, it helps to classify the items according to their importance.
The ABC inventory classification system determines the importance of items and includes different levels of control based on the relative importance of the items.
The ABC principle is based on the observation that a few items frequently dominate the results that are achieved in any situation.
One recommended method is by using the Pareto's Law Principles. When this principle is applied to inventory, it is usually found that the relationship between the percentage of items and the percentage of annual revenue follows a pattern:
- A - About 20 percent of the items and about 80 percent of the revenue.
- B - About 30 percent of the items and about 15 percent of the revenue.
- C - About 50 percent of the items and about 5 percent of the revenue.
ABC items
When using the ABC approach, you should follow two general rules:
- Have many low-value items in stock.
- Concentrate your efforts on reducing the inventory of high value items.
A Items - Are important and deserve the tightest control and the most frequent review. These items take on a high priority level of control. The tight control on these items includes a focus on keeping accurate records, regular and frequent review by management, frequent review of demand forecasts, and close follow-up and expediting to reduce lead time.
B Items - Take on a medium priority level of control. These items have typical control with good records, regular attention, and typical processing.
C Items - Carrying additional stock of C items adds little to the total value of the inventory. C items take the lowest priority level of control. These items use the simplest possible controls. Make sure that there are many of these on hand, and keep simple or no records. Order large quantities of C items and carry safety stock.
Example of Usage of ABC Items
One way that ABC items are used is for cycle counting. For example, you may count A items more frequently, and you can set up the counting to occur twice a month, for example, while C items may only be counted every other month.
Manual setup of ABC classifications
The ability to manually setup ABC classifications helps with new inventory items or with a new company where there is little sales or purchase history on which to base the classifications. In this situation, the classifications must be based on professional judgment instead of statistical data.
The manual setup of the ABC classification is set up for each item. Do this on the Released products page in Product information management > Products > Released products, on the Manage costs FastTab under the ABC classification field group.
ABC models
The four ABC codes that you can set, depending on which classification model is used in the company, are defined as follows:
- Value - Specify the item's ABC code for inventory value. Inventory value refers to the worth of the items in inventory. For example, if A is specified in this field, the selected item is categorized as an A item.
- Margin - Specify the item's ABC code for marginal income. For example, if A is specified in this field, the selected item is categorized as an A item.
- Revenue - Specify the ABC code for sales. For example, if A is specified in this field, the selected item is categorized as an A item.
- Carrying cost - Specify the item's ABC code for attachment to inventory. Inventory attachment refers to how long an item remains in inventory. For example, if A is specified in this field, the item selected is categorized as an A item that makes up 20 percent of the total inventory and is in inventory for two weeks. That means that A items are an expense in inventory for two weeks.
Each of these fields can take one of the four values: None, A, B, or C.
Note that the percentages and times mentioned in the four ABC codes are only examples.
Automatic setup of ABC classification
When you run an automatic setup of ABC classification, all item numbers are categorized according to the selected ABC classification and are based on the ABC model.
This ABC classification batch job causes the automatic setup of ABC classifications and is frequently used in organizations that have large inventories. For that kind of organization, it is not always practical to manually assign the classifications.
Go to Inventory management > Periodic tasks > ABC classification to open the dialog box for the selection of a criteria.
Specify the parameters that are described in the following list in the Parameters field group, and then select OK.
- From and To date - The data interval for the transactions that must be affected by the automatic ABC classification.
- Internal interest in % - The internal interest in percentage.
- A: Highest - The percentages for value A.
- B: Middle - The percentages for value B.
- C: Lowest - The percentages for value C.
- ABC Model:
- Revenue - Item numbers are categorized according to the sales for all item issues within the specified date interval. The calculation is made based on the inventory transactions.
- Margin - Item numbers are categorized according to the margin for all item issues in the specified date interval. The calculation is made based on the inventory transactions.
- Value - Item numbers are categorized according to the current inventory value, which is calculated based on the inventory levels.
- Carrying cost - Item numbers are categorized according to a calculated inventory carrying cost. That cost is calculated based on the specified interest and the inventory transactions.
The combined A, B, and C percentages must total 100. When the classification job is run, the results are inserted in the Released products table for every item according to the ABC models that are specified in the ABC model field.
Access the ABC classification report through Inventory management > Inquiries and reports > Inventory value reports > ABC classification
You cannot run an ABC classification job and print the result at the same time. To print an ABC classification job, the same parameters must be specified again in the ABC categorized items according to the specified criteria.
Watch this video to learn how to create the ABC classification report: